Looking back, 2025 was a strong year for investment portfolios. Equity markets posted further gains overall, led again by a relatively narrow group of large-cap growth stocks. Although the rally did broaden out in the later part of the year, with emerging market equities beginning to deliver following years of lacklustre returns. Fixed income proved more supportive than in prior years, with bonds benefiting from stabilising inflation expectations and policy easing, allowing yields to once again play a meaningful role in total returns. Gold outperformed, as central bank buying was backed up by renewed investor and retail interest, with all buyers keen to hedge against risks from high government debts and monetary debasement.
Financial markets enter 2026 balancing slowing growth and inflation, as well the ongoing uncertainty over how far and how fast central banks can ease policy. Furthermore, high equity valuations will prove a longer-term headwind to returns. Further falls in inflation are critical to unlocking the additional rate cuts needed to stimulate economic growth, which will resultingly support corporate earnings. The AI infrastructure buildout, which has supported growth and earnings for the last 12 months continues to have momentum but is at risk if elevated expectations fail to be met.
Conversely, this backdrop suggests that bonds may look increasingly attractive, should inflation and growth continue to slow or a recession emerges. Lower inflation and growth will incentivize looser monetary policy, which will pull yields lower. Furthermore, in the absence of any further inflationary concerns, rates are unlikely to rise significantly, allowing the current high yields to underwrite an attractive rate of return.
Elsewhere, political risks are likely to remain a meaningful driver of volatility through 2026. Markets are reacting quickly to changes in regulation, taxation, and trade policy. Tariff risk and retaliatory measures, in particular, carry the potential to weigh on global trade and growth while reintroducing inflationary risks. Policy announcements can have uneven implications across sectors and regions. Investors should therefore be prepared for episodic spikes in volatility.
In the UK, the inflation outlook may continue to be complicated by domestic cost pressures, especially where wage growth runs ahead of productivity gains. Rising costs in labour-intensive industries can feed through into services inflation, which tends to be more persistent and more challenging for central banks to address. If inflation remains sticky while growth softens, this could make a complicated backdrop for the Bank of England.
Looking ahead, we expect that inflation will continue to moderate gradually and economies slow, allowing central banks to ease gradually. Resultingly, we expect the dispersion of returns between fixed income and equities to narrow as the latter struggles in the headwind of higher valuations. We continue to be drawn to alternatives, particularly real assets, which we believe will benefit from the convergence of these factors. Slower growth and falling interest rates, will make real assets with predictable, and often contracted revenues, an attractive option, as an alternative to longer dated fixed income, where there are concerns over government debt sustainability.
– Will Dickson – Chief Investment Officer
